Foreign investors may give wide berth to bonds on uncertainty

MUMBAI: There may be a steep fall in demand from foreign investors for permits to buy government and corporate bonds at the Securities & Exchange Board of India's auction on Monday, as the outlook on bond gains and the Indian rupee deteriorates.

The premium an investor is willing to pay to secure the right to buy bonds may drop by more than three-fourths as a new regulatory diktat could also dampen sentiment, said analysts. "No one is willing to pay higher charges any more," said Ajay Manglunia, head (fixed income), Edelweiss Financial Services.

"After the re-investment norms kicked in, the whole economics for the FIIs to invest in these securities has changed," he added.

The regulator periodically auctions permits for foreigners to buy bonds. The last time it auctioned such permits in December, global investors lapped them up. The cut-off on the prices to buy government securities was 1.15 percentage points, i.e., paying 1.15 to buy 100 of bonds, which was well above the 78 basis points they paid in August 2010. For corporate debt, they paid 67 basis points, up from 3.5 basis points. But this time, it may be just 1-10 basis points. A basis point is 0.01 percentage point.

On Monday, Sebi will auction the remaining limits on foreign institutional investments in corporate debt and government bonds worth 7,200 crore. Government bonds worth 1,200 crore with no tenor restriction, and securities worth 1,400 crore for above five years will be put up for sale.

Permits to buy Rs 4,500 crore of corporate bonds are also being auctioned on Monday. Holding of foreigners in government securities is capped at $15 billion and in corporates at $45 billion, including $25 billion of infrastructure companies.

Other than the macro fundamentals, the regulatory diktat that any new debt limits bought by foreign funds in an auction are not valid once a fund sells those bonds may also dampen sentiment. The regulator has said the permit would either lapse at the time of sale of the bond or at redemption. Sebi may have tried to prevent speculation, but it may kill investor interest even if the returns appear attractive.

However, even the prospect of healthy returns looks bleak with a rally in bond prices unlikely after the Reserve Bank of India ruled out further rate cuts, which could have boosted bond prices. Bond prices and interest rates move in the opposite direction.

In December, the rupee had fallen sharply, making Indian assets attractive, and the size of the auction was also large - about Rs 50,000 crore. The outlook on the rupee has deteriorated after it fell for three straight weeks.